TIPS Under New Scrutiny As Losses Mount, Inflation Still Lags

By Michael Aneiro

This blog has written frequently about Treasury Inflation-Protected Securities, or TIPS, specifically how they’ve been hammered over the past few months even though TIPS are supposed to be a fairly defensive investment. TIPS basically offer Treasury bond yields augmented by a principal value that adjusts according to changes in the consumer price index, thus providing a hedge against inflation. Some prominent investors have argued recently that TIPS don’t really function like they’re supposed to, and that their prices can fall more sharply than Treasury bond prices.

Today Min Zeng and Carolyn Cui report in the Wall Street Journal that the Treasury is consulting some big banks about why the TIPS market struggled so acutely last quarter, suffering its steepest quarterly price decline since the creation of TIPS in 1997. One question is whether investor fears about the inflationary effects of the Federal Reserve’s quantitative easing caused them to load up too heavily on TIPS in anticipation of an inflation jump that hasn’t materialized:

[G]overnment officials are concerned that the rise in real rates also signals that the TIPS market may be hamstrung by a lack of buyers and sellers in the market, traders and analysts said.

The Treasury frequently has asked big banks for input on steps to make the market work better, but the question about what has driven this year’s action is unusually direct and reflects anxiety about how a once-hot market crowded with individual investors might handle further volatility, observers said.

“The thorniness of this particular question” shows that the Treasury is probably concerned whether it has oversupplied the market, said John Connor, a managing director focusing on inflation products at Mesirow Financial.

The story notes that while the 10-year Treasury note has jumped to 2.554% recently from 1.64% in May, the yield on 10-year TIPS has surged to 0.42% from negative 0.66%, with the faster pace of the rise TIPS yields signaling that inflation expectations declined, reducing the allure of TIPS as an inflation hedge. The story points out that investors have pulled $13.1 billion out of TIPS mutual funds and exchange-traded funds through July 10.

That said, the Labor Market reported today that the June consumer price index rose by 0.5% in June, the biggest rise in four months.

The iShares Barclays TIPS Bond Fund (TIP) is up 28 cents around midday Thursday to $112.54, still down 7.8% over the past three months.

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JULY 17, 2013 11:13 A.M.

Tango wrote:

I am amazed of how many individuals in and out of the government say there is no inflation. To all of these people one question When was the last time you shopped in a super market ? Tell me the difference in price last year vs today for meat , chicken , eggs etc

Amey Stone is Barron’s Income Investing blogger and Current Yield columnist. She was formerly a managing editor at CBS MoneyWatch, MSN Money and AOL DailyFinance. Her responsibilities included overseeing market coverage and personal finance topics. Prior to those roles, she was a senior writer at BusinessWeek where she authored the Street Wise column online and contributed to the magazine’s Inside Wall Street column. Topics covered included economics, corporate finance, Fed policy, municipal bonds, mutual funds and dividend investing. She co-authored King of Capital, a biography of Citigroup Chairman Sandy Weill. She is a graduate of Yale University and Columbia University’s Graduate School of Journalism.